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History Is Made, for Now

At yesterday's annual meeting, Flamel's shareholders made history.

With each passing month there seems to be a new record set for shareholder activism. Yesterday, the bar was raised again in France at the annual meeting of Motley Fool Hidden Gems recommendation Flamel Technologies(NASDAQ:FLML), developer of two proprietary drug-delivery technologies, Medusa and Micropump. Flamel's shareholders passed the resolutions proposed by a dissident shareholder group; the slate of directors proposed by the outside shareholder and respected hedge fund manager Oscar Schafer received approximately 88% of the votes cast at the meeting. All proposals to re-elect the former directors were rejected by voting shareholders.

Gerald Soula, founder of Flamel and its CEO until yesterday, made it clear that if Schafer's proposed board was elected, he would immediately depart. He has now made good on his word. Losing 88% of any vote is no easy task (without actually being caught punching babies or something), and now Soula may get to hold the record for "Most Overwhelmingly Rejected CEO" for a little while.

What's nextObviously, given the shareholder dissension, not all is well at Flamel. The company is coming off a highly disappointing record of performance for shareholders over the past two years, having lost nearly three-quarters of its value. In September 2003, the stock traded at $43 a share, and this April it reached a recent low of $12. The stock has gained about 60% since April, apparently in reaction to the news of the proxy challenge.

Here on Fool.com and in direct communication with our Hidden Gems subscribers, we took the position that the Soula board of directors should be rejected, so we're pleased with the outcome and will in the newsletter assess the future prospects for the company in depth (as we do for all our recommendations). To date, Hidden Gems picks are up 35% on average, vs. the S&P 500's 10% -- and that's in spite of Flamel, which has been one of the newsletter's worst performers. But we're interested in what happens next, and whether a day is on the horizon that Flamel will add to, rather than subtract from, our total returns.

During this morning's conference call, analysts and shareholders heaped universal praise upon Stephen Willard, the incoming CEO who previously served as the company's CFO. Willard was quite gracious in deflecting the compliments aimed at him and insisting that the larger team now leading Flamel get the credit for putting the company into a position to succeed. He also did an admirable job in crediting Soula for all of his work, and on the whole he put a very good face on the start of Flamel's next chapter.

Now that new management is in place, optimists might like to assume that a continued rise in the stock price is on the horizon. This isn't necessarily the case at all, even if management is now much better positioned to serve its shareholders. Flamel's stock did not really move up when the news was released that the new board of directors had been elected, indicating that the results of the vote had already been priced in by the market. Furthermore, yesterday's press release and today's conference call revealed that second-quarter results will be worse than expected and that costs have been growing at the same time that revenues from certain sources, including Bristol-Myers Squibb(NYSE:BMY), have been shrinking.

A very short history of shareholder board battlesHow do shareholders -- in terms of increased stock prices -- fare after voting out disappointing management? To gauge Flamel's prospects, let's take a look at how some recent high-profile shareholder revolts against boards have panned out.

In 2001, 17% of Eastman Kodak(NYSE:EK) shareholders withheld support from four directors. The next year, one of the directors resigned. Four years later, however, Kodak stock is still below where it was at the time.

At the AOL Time Warner (now Time Warner(NYSE:TWX)) annual meeting held May 16, 2003, CEO Steve Case received a 22% negative vote. Anticipating a poor result, Case resigned as chair prior to the announcement of the vote. Since the vote, company shares have mildly underperformed the market.

At the March 2, 2004, Disney(NYSE:DIS) annual meeting, shareholders delivered a strong vote against CEO Michael Eisner -- 44% were against his remaining on the board. In response to the vote, Disney's board separated the roles of chairman and CEO (Eisner lost the former title but retained his position as CEO). Disney shares today are priced at almost exactly what they were then, while the market is up about 10%. (See James Stewart's excellent book Disney War for more on that battle.)

With just three data points, we're not going to learn terribly much. But at least we know that shareholders getting their way in a battle against a board lineup doesn't automatically translate quickly to market-beating performance or even a higher price stock price on an absolute level. Where the stock price goes over the long term will reflect the actual execution of the business over time -- not the names of the board members. And Time Warner, Kodak, and Disney have all had more than their fair share of mega-problems to deal with in the time since these votes.

Applying any of these conclusions directly to Flamel's case is problematic because, unlike yesterday's vote at Flamel, these voter-influenced board alterations didn't amount to a major management overhaul. Flamel will change much more than those other companies, which had alterations of one or two chairs in the boardroom.

The trend in shareholder activismThe percentage escalation in the above voting results provides yet another indicator that over time shareholders are becoming more active with their companies, and members of management are not as insulated from their mistakes as they once were. Consider the vote at the annual meeting of Career Education(NASDAQ:CECO) last month. Following that meeting, the company announced that "62% of the shares of common stock outstanding were voted in favor of withholding authority to elect the three director nominees."

Steve Bostic, an owner of 1% of the company's outstanding shares who helped lead the challenge to the board, wrote in a letter to the board that by excluding the unvoted shares that are automatically credited in favor of management's proposed board, the true tally showed that "more than 80% of the shares voting withheld authority on directors -- a first in corporate governance history." Assuming that's accurate, and with Flamel's news, we now have a second.

Of course, it won't be the last. The increase in shareholder participation, particularly at companies that have done an inadequate job of rewarding shareholders, is one we monitor and salute, and one that we'll continue to support here at the Fool and in our Hidden Gems service. If you'd like to join us in Hidden Gems, we're offering a free no-risk trial for 30 days. Click here to learn more.

Bill Barker owns shares in none of the companies mentioned in this article. The Motley Fool has a disclosure policy.